Examining the Causes and Consequences of the 2008 Credit Crisis

This essay provides an analysis of the 2008 credit crisis, beginning with the decline in mortgages in 2006 and its escalation into a major financial crisis. It highlights the roles of hedge funds, banks, and insurance companies in creating and insuring mortgage-backed securities, leading to increased credit and eventually widespread defaults. The essay details the impact on the bond market, the shift to government bonds as safe havens, and the implementation of quantitative easing. It examines the decline in bond yields and the resulting loss of investor confidence. Finally, it suggests measures the government could take to mitigate future crises, such as adjusting interest rates and discouraging reliance on government bonds as the sole safe investment. The essay draws on references to support its arguments.

Running head: 2008 CREDIT CRISIS 1
2008 Credit Crisis
Name
Institution

2008 CREDIT CRISIS 2
2008 Credit Crisis
The beginning of the credit crisis was marked by the decline of mortgages in the year
2006. The depression perpetuated to the great 2008 credit crisis contrary to the realtor's hope of
sustainable markets. Hedge funds, banks, and insurance companies influenced the credit crisis
(Ciner, Gurdgiev, & Lucey, 2013). While the Hedge funds and banks created Mortgage-backed
securities, the insurance companies continued to insure them against the credit default. The
increased demand for mortgages contributed to the increased sales by the banks and hedge funds.
This influenced the banks to offer an over-draft credit to new home investments which had more
than 100% credit value. As a result, the number of questionable creditworthy creditors increased.
After the market depression in 2006, creditors defaulted their mortgages, a move that affected the
mutual funds, pension funds, and corporations that owned the investments. The resultant banking
crisis in 2007 led to the 2008 financial crisis. The second worst recession after the great
depression was produced. This recorded a severe impact on the bond market.
Following the unsteady drop in the value of shares, the credit crunch shacked the
financial market. The resultant effect was reduced revenues and profits by the corresponding
firms. As a result, there were low payments of dividends. The investors adopted unattractive
investment option. However, after the 2008 recession, shares began to recover and share market
bounced back as a result of increased economic growth (Streeck, 2014).
On the contrary, while the share market was declining, the bond market was increasing.
Unlike the shares which are risky and full of uncertainty, government bonds are safe-haven for
investors (Ciner, Gurdgiev, & Lucey, 2013; Streeck, 2014). In circumstances of investment
uncertainty, investors shift to safer investment options like government bonds. Consequently, as
a result of the shift, the investors adopted the quantitative easing policy which influenced the

2008 CREDIT CRISIS 3
market of the bonds. The policy resulted in the releasing of more money to the public so as to
enable them to access and acquire government bonds. Therefore, the government increased its
holding of bonds. At the advent of the 2006-2008 financial market crisis, the demand for bonds
increased exponentially.
The recession and the failure of the financial market increased government borrowing.
This means that there was a high demand for bonds and the government was willing to sell in
order to gain financial stability. Analysis from such a scenario construes that when the debt is
high, the value of bond declines while the interest rates increases. Due to high demand and
supply of market bonds, their yield decreased from more than 5 percent to less than 1 percent
(Antonakakis, & Vergos, 2013). Short-term bonds were the worst affected to the point of gaining
a negative yield. The scenarios created a non-confidential circumstance with the investors losing
confidence with the financial system. The investor’s money was held by the treasury at the
expense of making substantial revenue generating investments.
In the future, the government has a crucial role in ensuring that the bond market is safe
from the effects of the credit crisis. However, the crush of market bonds can be predicted and
mitigated. The government can come up with measures that will deter failure in the financial
market from affecting the bond market. One of the viable measures and strategies is to reduce
short-term interest rates on bonds. Also, the interest rates on long-term bonds should be reduced
while the prices of such bonds increased. Besides, the government should not provide incentives
to buy assets intended to limit investments. The measures will discourage investors from seeing
government bonds as a safe haven for investment and opt for other options.

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References
Ciner, C., Gurdgiev, C., & Lucey, B. M. (2013). Hedges and safe havens: An examination of
stocks, bonds, gold, oil and exchange rates. International Review of Financial Analysis,
29, 202-211.
Streeck, W. (2014). The politics of public debt: Neoliberalism, capitalist development and the
restructuring of the state. German Economic Review, 15(1), 143-165.
Antonakakis, N., & Vergos, K. (2013). Sovereign bond yield spillovers in the Eurozone during
the financial and debt crisis. Journal of International Financial Markets, Institutions, and
Money, 26, 258-272.